Spain’s Bad Bank Profit Pledge Seen Hindered by Housing

A torn sign offering new houses for sale hangs from the shell of an abandoned residential construction site in Arroyomolinos, near Madrid. Photographer: Angel Navarrete/Bloomberg

Dec. 10 (Bloomberg) -- Spain’s pledge to generate profit
from its bad bank will be undermined by two more years of
property-price declines and the cost of maintaining the
repossessed homes it will own, according to real estate and
finance professor Jose Luis Suarez.

The bank, known as Sareb, was created to purge toxic assets
from the books of troubled Spanish lenders. Most of it will be
linked to residential property and development land in Spain
that will continue a price decline that started when the
country’s housing bubble burst in 2007, said Suarez of the IESE
business school in Madrid.

Sareb’s profit prospects matter to Spain because the
country is trying get outside investors to take a stake of at
least 51 percent in the institution. The 60 billion-euro ($78
billion) fund will generate an annual return on equity of 14
percent to 15 percent, Fernando Restoy, head of the state rescue
fund that will own the rest of Sareb, said on Oct. 29. He called
his estimate “conservative.”

“Sareb is going to be very different to every other bad
bank in terms of assets, which are going to be mostly high risk
residential,” Suarez said. That will saddle the bank with
maintenance expenses for the properties it owns along with the
costs of debt backing the properties, he said.

A spokesman for Sareb, when asked about the bank’s earnings
prospects, cited Restoy’s comments on Oct. 29. He declined to
make any further comments.

Discounted Assets

The bad bank, created as a condition of a European bailout
of as much as 100 billion euros for Spain’s banking industry,
will have 90,000 homes within about two years, Sareb General
Director Antonio Carrascosa said on Nov. 27. The Bankia group
alone will transfer 38 billion euros in real estate loans and 12
billion euros of foreclosed assets by gross value to the bad
bank, he said.

Sareb will buy foreclosed assets at an average discount of
63 percent to book value. That includes reductions of as much as
80 percent for foreclosed land, 63 percent for foreclosed
unfinished housing developments and 32 percent for loans to
finance finished apartments, according to the state rescue fund
known as FROB.

“They are discounts to book values, but that doesn’t tell
us much as we don’t know what the book values are to start
with,” said Vanesa Gelado, director of Drago Capital, a Madrid-based real estate fund.

Irish Loans

Ireland’s National Asset Management Agency, which has a
similar mandate to Sareb’s, took on 31.8 billion euros of loans
backing real estate after they were discounted by an average of
57 percent.

While most of Sareb’s assets will be in Spain and linked to
residential property, about a third of the real estate backing
NAMA’s loans is in Britain. In addition, 44 percent of NAMA’s
assets relate to office, retail and other types of properties,
according to its website.

“We can’t see Sareb making a profit in any shape or
form,” said Fernando Rodriguez de Acuna Martinez, a partner at
Madrid-based real estate consulting firm Acuna & Asociados. “If
you look at the foreclosed assets it’s going to take on, you’ll
see around 40 percent of that is land which is unsellable.”

Worthless Land

Spain has enough land approved for development to build 4
million homes and an existing supply of residences that would
take about 10 years to sell, Acuna said. That makes some of the
development land worthless, he said.

The country needs outside investors to hold a majority of
Sareb to keep the bank’s debt from being recorded as part of the
government’s deficit, tied for the second-highest in Europe. The
bank will have initial equity of about 3.9 billion euros.

“I’m not surprised Sareb hasn’t been able to attract
foreign investors, and Spanish banks will only invest with a gun
pointed at their heads,” Suarez said.

Axa SA, Europe’s biggest insurer, is in talks with the
Spanish government about investing in the bank, Expansion
reported on Dec. 7, citing an interview with Chief Executive
Officer Henri de Castries.

‘Fragile’ Structure

The bank’s structure is “fragile,” with only about 8
percent equity and rest state-guaranteed debt, he said. Suarez’s
IESE was rated sixth out of 80 peers in the Financial Times
European Business Schools 2012 ranking.

Spain has 700,000 unsold homes, according to the Ministry
of Public Works. Acuna & Asociados puts the overhang, which
includes incomplete units, foreclosures and unsold homes, at 2
million units.

“Even 700,000 unsold is an enormous amount,” Suarez said.
“It depends where the stock is, but there are very few areas
where in the coming years you are going to need to build
homes.”

Residential prices fell 14.4 percent in the three months to
June from a year earlier, the most since the measurement began
in 2008, according to Spain’s National Statistics Institute.

Prices more than doubled in the decade through 2007 before
starting to slide in the second quarter of 2008, data from the
Public Works ministry show. Tasaciones Inmobiliarias, Spain’s
largest home appraiser, estimates that prices dropped 33.2
percent since a December 2007 peak.

Fewer Mortgages

Home sales by volume for the second quarter were 68 percent
below their 2006 peak, according to data from the Ministry of
Public Works. Spanish banks granted 21,195 new mortgages in
September, an 83 percent drop from the high reached in 2007,
Bank of Spain data show.

Even after the slump, home values are equal to six years of
a family’s gross income compared with four years in the U.K. and
U.S., Suarez said. Barring a severe shock to the market, prices
will decline to the long-term average for affordability by 2016,
Deutsche Bank analysts including Thomas Mayer said in a July
report. Prices need to fall another 25 percent to reach their
fair value, the bank estimated.

A declining population will put further pressure on values.
The number of people in Spain will fall in 2013 for the first
time since 1981 as unemployed immigrants return home and
Spaniards search for work abroad, according to a study published
by the statistics institute in November. The total will drop to
41.5 million in 2052 from 46.5 million now, it concluded.

Foreigners with residency status in Spain purchased 9,502
housing units in the second quarter, down from a 30,000 at the
2006 peak, according to the Public Works Ministry.

Sareb itself could weigh on prices in the future as its
property sales affect housing supply and benchmark values, the
International Monetary Fund said in a November report.

“It will be the biggest real estate company in the history
of Spain, possibly the world, so whatever it does is going to
have a large impact on the market,” Suarez said.